You Did Realize We Were Bailing Out Europe, Didn't You?
Yesterday, the CATO Institute Tweeted: "The Federal Reserve is secretly propping up Europe with American money. Why?"
Secretly? It's no secret. It's all out there in the open, as Gerald P. O'Driscoll notes, it's just that no one in America is noticing:
America's central bank, the Federal Reserve, is engaged in a bailout of European banks.
Surprisingly, its operation is largely unnoticed here. The Fed is using what is termed a "temporary U.S. dollar liquidity swap arrangement" with the European Central Bank (ECB). There are similar arrangements with the central banks of Canada, England, Switzerland and Japan. Simply put, the Fed trades or "swaps" dollars for euros. The Fed is compensated by payment of an interest rate (currently 50 basis points, or one-half of 1%) above the overnight index swap rate. The ECB, which guarantees to return the dollars at an exchange rate fixed at the time the original swap is made, then lends the dollars to European banks of its choosing.
And as he points out,
No matter the legalistic interpretation, the Fed is, working through the ECB, bailing out European banks and, indirectly, spendthrift European governments. It is difficult to count the number of things wrong with this arrangement.
First, the Fed has no authority for a bailout of Europe. My source for that judgment? Fed Chairman Ben Bernanke met with Republican senators on Dec. 14 to brief them on the European situation. After the meeting, Sen. Lindsey Graham told reporters that Mr. Bernanke himself said the Fed did not have "the intention or the authority" to bail out Europe. The week Mr. Bernanke promised no bailout, however, the size of the swap lines to the ECB ballooned by around $52 billion.
Second, these Federal Reserve swap arrangements foster the moral hazards and distortions that government credit allocation entails. Allowing the ECB to do the initial credit allocation — to favored banks and then, some hope, through further lending to spendthrift EU governments — does not make the problem better.
Third, the nontransparency of the swap arrangements is troublesome in a democracy. To his credit, Mr. Bernanke has promised more openness and better communication of the Fed's monetary policy goals. The swap arrangements are at odds with his promise. It is time for the Fed chairman to provide an honest accounting to Congress of what is going on.
Would members of Ricochet like to help count the other ways this arrangement is wrong? I bet we can come up with reasons four, five, six, seven, eight, nine and ten within the hour.